Gas Drilling Increasing

It was only a couple months ago on June 14th that active gas rigs hit an 18 year low at 349. Last week active gas rigs spiked significantly.

Baker Hughes said active gas rigs rose +14 last week to 394 and +45 rigs more than the June low. The big jump in gas prices in the spring to $4.40 eventually weakened but closed Friday at just over $3.50. Compared to the $1.90 low in the spring of 2012 this almost a windfall. Drilling for gas has returned to a profitable endeavor and producers are rapidly drilling new wells to hold leases.

Surprisingly the active rig count for oil rigs dropped a very sharp -23 rigs to 1,365 last week. Obviously some of those converted to gas but you can't just take a single rig looking for oil one week and decide you are going to drill for gas the next. That normally requires breaking down the rig and transporting it across the country from an oil field to a gas field.

I suspect the rig counts for oil will rebound next week. With oil at $110 a barrel I doubt drillers are suddenly giving up on the black gold.

With nearly 1,800 active rigs there were nearly 8,800 wells drilled in Q2. The most active by far was the Permian Basin with 2,294 followed by the Eagle Ford at 1,050. The Barnett really fell off over the last year because it is a gas field and the majority of the drilling locations in the main fairway have already been drilled. Active wells in the Bakken are increasing at the rate of roughly 200 per month but the Permian has the Bakken beat with an average of 765 per month.

When you think about all the effort that goes into drilling a well from the site survey, seismic, land preparation, rig movement and setup, getting access to water, delivery of well pipe, mud, sand, drilling the actual well, scheduling the fracking, organizing the 60 to 80 vehicles involved in the fracking and then completing the well for production it is amazing this occurred 8,799 times in the second quarter.

Wells Drilled in Q2 (Source BHI)

Growing the number of active wells by more than 8,000 per quarter is very beneficial for service companies like Baker Hughes, Halliburton, Schlumberger, National Oilwell, etc. Shares of the last three are at 52-week highs and Baker Hughes is close. Now add in the recent push for gas drilling in places like Saudi Arabia, China and all over South America and the service companies are going to be doing well in the years to come. As the shale fields are proven in these other countries the push will be on to ramp up drilling from a handful of rigs to dozens or even hundreds in every major deposit around the world.

You would think this would add appreciably to the total amount of oil being produced but I have shown numerous times over the last year that the majority of shale wells are only producing at roughly 10-15% of their initial capacity within three years. The decline rate in a shale well is very fast. There will be a big initial gain from each new field but that gain will be short lived.

Another factor in drilling in the U.S. that is helping the service companies is the rapidly increasing stage count in the fracking process. Some of the newer wells are seeing as many as 40 fracking stages in each horizontal lateral. This is sucking up the excess sand supply and helping the service companies put more of their excess fracking rigs to work. The rush to build up horsepower and water/sand capacity needed for fracking pushed these companies to overbuild when the gas boom was in progress. When gas drilling faded along with prices there was a large amount of excess capacity with no wells to frack. That excess capacity s now being used to handle the larger number of stages and the pricing for fracking services has stabilized. Baker Hughes recently reported fracking a record number of stages in a 24 hour period and that is still rising as efficiencies improve.

Keystone XL Pipeline

The Keystone XL project was delayed again last week when there were accusations of a conflict of interest during an environmental review. The final approval is now expected in early 2014. The pipeline is expected to carry 860,000 bpd of oil from Canada and the Midwest shale fields south to Cushing and on to the Gulf of Mexico pipelines and refiners. That assumes it will eventually be approved. President Obama is still strongly against it.

Harold Hamm, CEO of Continental Resources, said Keystone no longer matters, "it is not critical any longer." He was talking about the rush to oil by rail and the rail terminals springing up all over the shale landscape. When you ship oil by rail it does not have to go to the same place every time like a pipeline. Every trainload can be directed somewhere different to capitalize on willing markets all across the USA.

Other pipeline operators are rushing to fill the void left by Keystone's lack of approval. Enbridge (ENB) now moved 475,000 bpd from the Bakken and is adding another 225,000 bpd of capacity by 2015. Crude shipments by rail have increased from 100,000 bpd in 2010 to 620,000 bpd today. That is expected to grow to 750,000 bpd by year end.

Without Keystone the oil sands crude from Canada is facing a tough route south. However, Enbridge is planning enhancements to existing pipelines and the reversal of Line 9 route from northbound to southbound. The company estimates they can add 1.7 mbpd of capacity by mid 2015.

Kinder Morgan has already submitted a proposal to triple capacity on the existing Trans Mountain route and adding 593,000 bpd to Canada's lower West Coast.

TransCanada proposed an Energy East pipeline to ship 1.1 mbpd of oil sands crude from Alberts to Quebec and New Brunswick.

Keystone XL was proposed in 2008 but immediately ran into approval problems by environmentalists. While Keystone has been fighting for approval the competitors have been rapidly building out alternatives and by the time it is approved it may no longer be needed.